Regression and Inventory Valuation

Inventory is defined to include what?

• Raw material used in a production process

• Work-in-progress (partly finished goods) (manufacturing company)

• Finished Goods

• Products brought for re-sale (retailer)

• Office consumables or stationary (service company)

The higher the value of closing inventory, the higher the what?

Gross Profit. Because COGS decreases (since closing inventory is larger) and Gross Profit Increases (since you’re subtracting a smaller COGS from overall Sales.)

Compare the three different valuation methods in the event of rising prices

• FIFO: Closing Inventory Value is the highest and so, profit is the highest. (Because the oldest (cheapest) inventory items are sold first, and the newer (more expensive) items remain in the closing inventory. And so, closing inventory is higher.)

• AVCO: Closing Inventory Value and profits are in the middle

• LIFO: Closing Inventory Value is the lowest and so, profits are the lowest.

What are the advantages of FIFO?

• Easy to calculate and understand

• Logical for perishable or fast moving goods

• Recognised by Accounting Standards

• Accepted by HMRC

What are the disadvantages of FIFO?

• There is no tax advantage

• May not be a suitable measure in times of hyperinflation.

What are the advantages of LIFO?

• More reasonable to use in inflationary periods.

• Logical for large heavy stocks.

What are disadvantages of LIFO?

• Not recommended by accounting standards

• Not accepted by HRMCS

What are the advantages of AVCO?

• Logical for liquids and gases

• Recognised by accounting standards

• Accepted by HMRC

• Due to the use of average prices, comparison between profits of different periods becomes easier and realistic.

What are the disadvantages of AVCO?

• More involved calculation

• The number and complexity of the calculations with AVCO can create rounding off problem, which increases the risk of error.

What are the fundamental principles of Ethics?

• Integrity

• Objectivity

• Professional Competence and Due Care

• Confidentially

• Professional Behaviour